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Brian Levitt | June 17, 2022

What do recessions mean for stocks?

Consensus is building that a U.S. recession may be ahead. What could that mean for investors, particularly given the drawdowns we’ve already seen? Brian Levitt looks at how U.S. stocks performed during the past nine recessions.

The economist Paul Samuelson famously quipped that the U.S. stock market had predicted nine of the past five U.S. recessions. Recently, stock markets have been rattled with the S&P 500 Index officially in bear market territory and the NASDAQ Composite Index down by over 30% this year alone.1 Per Samuelson, is this market downturn one of the five that presages a recession or one of the four that doesn’t — and does it matter for investors?

As to the recession question, consensus is building that we may be heading toward one. A survey by the Financial Times reveals that nearly 70% of economists polled believe that the U.S. economy will be in a recession by next year.2 Admittedly, the usual trappings of a recession — high and (still) rising inflation,3 tightening monetary policy,4 flattening U.S. Treasury yield curve,5 weakening U.S. consumer sentiment,6 strengthening U.S. dollar7 — are here.

But what would a recession mean for investors, particularly given the market drawdowns already experienced? The answer is not as clear as some may suspect. To Samuelson’s point, the market is a leading (although not perfect) indicator of the economy, and not the other way around.

What history tells us about markets and recessions

Markets don’t always decline in recessions. The average decline for the S&P 500 during the past nine U.S. recessions is 1.5% while the median decline is 3.4%.8 However, as the chart below shows, the index was positive during four of the past nine recessions, including the double-dip recessions of the early 1980s in which Paul Volcker and the U.S. Federal Reserve (Fed) were breaking inflation through sharply rising interest rates.

Stocks don’t always decline during recessions

S&P 500 Index cumulative returns during recessions

Sources: National Bureau of Economic Research, Bloomberg. The S&P 500 Index is a market-capitalization-weighted index of the 500 largest domestic U.S. stocks. Indices cannot be purchased directly by investors. Past performance does not guarantee future results.

Admittedly, that may be cold comfort to current investors, despite the obvious analogies between now and the early 1980s. Investors may instead draw parallels from the current environment to 1973 (high and rising inflation, a Fed that was slow to respond, an international crisis that exacerbated the problem) and 2001 (tech wreck). In both instances, U.S. markets were down meaningfully in the year ahead of the recession (-15.2% and -21.7%, respectively) and continued to decline through the recessions.9 From the 1973 and 2000 peaks through the end of the respective recessions, the U.S. markets had declined between 25% and 31%, with months in 1974 and 2002 when the cumulative declines were much worse than that.10

Let’s not sugarcoat it, if 1973 and 2001 are the applicable analogies to today’s environment, then there could be more pain ahead.

Yet, a broader analysis of the past nine U.S. recessions reveals that the average return from the cycle’s peak to the end of the recession is -15.3%.11 For reference, the S&P 500 Index, as of June 16, 2022, is already down 24% from the Jan. 4, 2022, peak.12

Again, the rides for investors in certain U.S. recessionary environments (1973, 2001, 2008) have been far worse than those numbers reveal. Excluding 2008, the worst return from the cycle peak to the end of the recession was 1973, when the market fell 31%. With today’s market down 21%, it’s already done more than 75% of that.13

Further, U.S. stocks have tended to perform above average in the three months before the end of a recession, as well as the subsequent 1-, 3-, and 5-year periods.14

U.S. stock performance at the end of, and following, recessions

Sources: National Bureau of Economic Research, Bloomberg. The S&P 500 Index is a market-capitalization-weighted index of the 500 largest domestic U.S. stocks. Indices cannot be purchased directly by investors. Past performance does not guarantee future results.

Paul Samuelson also said, “Investing should be more like watching paint dry or watching grass grow.” It certainly hasn’t felt that way lately and, recession or not, may not feel that way for a while. But we’ve done this before. And for what it’s worth, I remind those who fear a repeat of the 1970s, that a $100,000 USD investment in the beginning of 1973 in the U.S. equity market was only worth $59,000 USD by the end of 1974. It was worth $936,000 USD by the end of 1994 and today would be worth $13.8 million USD.15 That’s some tall grass, despite there being plenty of days over that period when it looked like the grass was dying. 

1 Source: Bloomberg, 6/13/22.

2 Source: Financial Times, 6/13/22.

3 Source: U.S. Bureau of Labor Statistics, 5/31/22. As represented by the year-over-year percent change in the Consumer Price Index. The Consumer Price Index measures change in consumer prices as determined by the U.S. Bureau of Labor Statistics.

4 Source: U.S. Federal Reserve, 6/13/22.

5 Source: Bloomberg, 6/13/22.

6 Source: University of Michigan, 5/31/22.

7 Source: Bloomberg, 6/13/22. As represented by the U.S. Dollar Index (DXY). The U.S. Dollar Index indicates the general international value of the U.S. dollar by averaging the exchange rates between the U.S. dollar and major world currencies.

8 Source: Bloomberg, 6/13/22. As represented by the S&P 500 Index.

9 Source: Bloomberg, 6/13/22. As represented by the S&P 500 Index. The S&P 500 Index is a market-capitalization-weighted index of the 500 largest domestic U.S. stocks. Indices cannot be purchased directly by investors. Past performance does not guarantee future results.

10 Source: Bloomberg, 6/13/22. As represented by the S&P 500 Index. The S&P 500 Index is a market-capitalization-weighted index of the 500 largest domestic U.S. stocks. Indices cannot be purchased directly by investors. Past performance does not guarantee future results.

11 Source: Bloomberg, 6/13/22. As represented by the S&P 500 Index. Based on the following returns: July 10, 1957 to April 30, 1958 (-12.39%); Aug. 5, 1959 to Feb. 29, 1961 (+3.50%); Dec. 2, 1968 to Nov. 30, 1970 (-19.35%); Jan. 5, 1973 to March 31, 1975 (-31.45%); Feb. 8, 1980 to July 31, 1980 (+2.34%); Nov. 26, 1980 to Nov. 30, 1982 (-1.41%); July 13, 1990 to March 31, 1991 (+0.64%); March 23, 2000 to Nov. 30, 2001 (-24.22%); Oct. 12, 2007 to July June 30, 2009 (-41.26%).

12 Source: Bloomberg, 6/13/22. As represented by the S&P 500 Index.

13 Source: Bloomberg, 6/13/22. As represented by the S&P 500 Index. Based on the following returns: July 10, 1957 to April 30, 1958 (-12.39%); Aug. 5, 1959 to Feb. 29, 1961 (+3.50%); Dec. 2, 1968 to Nov. 30, 1970 (-19.35%); Jan. 5, 1973 to March 31, 1975 (-31.45%); Feb. 8, 1980 to July 31, 1980 (+2.34%); Nov. 26, 1980 to Nov. 30, 1982 (-1.41%); July 13, 1990 to March 31, 1991 (+0.64%); March 23, 2000 to Nov. 30, 2001 (-24.22%); Oct. 12, 2007 to June 30, 2009 (-41.26%). 

14 Source: Bloomberg, 6/13/22. As represented by the S&P 500 Index.

15 Source: Bloomberg, 6/13/22. As represented by the S&P 500 Index.

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Header image: Andreas Wonisch / Stocksy

All figures are in U.S. dollars.

Some references are U.S. centric and may not apply to Canada.

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All investing involves risk, including the risk of loss.

An investment cannot be made in an index.

Past performance is not a guarantee of future results.

In general, stock values fluctuate, sometimes widely, in response to activities specific to the company as well as general market, economic and political conditions.

The NASDAQ Composite Index is the market capitalization-weighted index of approximately 3,000 common equities listed on the Nasdaq stock exchange.

The S&P 500 Index is a market-capitalization-weighted index of the 500 largest domestic U.S. stocks.

Tightening monetary policy refers to actions by a central bank to slow down overheated economic growth or to curb inflation when it is rising too quickly.

A basis point is one hundredth of a percentage point.

The yield curve plots interest rates, at a set point in time, of bonds having equal credit quality but differing maturity dates to project future interest rate changes and economic activity. A flat yield curve is one in which there is little difference in the yields for short-term and long-term bonds of the same credit quality. In a normal yield curve, longer-term bonds have a higher yield.

The opinions referenced above are those of the author as of June 15, 2022. These comments should not be construed as recommendations, but as an illustration of broader themes. Forward-looking statements are not guarantees of future results. They involve risks, uncertainties and assumptions; there can be no assurance that actual results will not differ materially from expectations.